Veidekke - Constructing a road to success A strategic and financial analysis

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Master thesis written by:

Rikke Hegge Jørgensen (Cand.Merc FSM) 200889-XXXX

Kevin Hellegård Nielsen (Cand.Merc FIR) 110589-XXXX

Supervisor: Henning Skov Jensen Characters with spaces: 259.228

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Executive summary

This thesis addresses some of the challenges many industries have faced in the aftermath of the financial crisis in 2008. The crisis had several consequences that have redefined markets and business models. We have chosen to look at one industry that is very sensitive to economic cycles; the construction industry. A large proportion of construction industry activities, particularly within infrastructure, is driven directly by government expenditure. In the post- crisis environment, many governments have had to cut back on all types of public expenditure, in order to bring deficits under control. As a result, this has had direct and negative demand effects on the construction industry in most of Europe.

The purpose of this thesis is to conduct a strategic and financial analysis of Veidekke ASA, the largest Norwegian onshore construction company, and the Norwegian construction industry.

The Norwegian construction industry has experienced an increase in competition, caused by new foreign competitors coming to Norway, which have been drawn by the comparatively high activity levels in the Norwegian market compared to the rest of Europe. Our aim is to determine how Veidekke ASA can optimize their business model to be competitive in this highly competitive industry, characterised by decreasing profit margins.

The thesis consists of six parts. The first part presents an overview of the construction industry, Veidekke, and the competitors we have chosen to analyse. The second part is a strategic analysis in which we define the macro environment and Veidekke’s strategic position. Moreover, the third part is a financial analysis in which we analyse the development of Veidekke, and some major domestic and international competitors (NCC, Skanska, AF Gruppen, Implenia and Hochtief). The fourth part is a capital structure analysis in which we have calculated the WACC for all of the above-mentioned companies, in order to determine if Veidekke’s capital structure generates a competitive advantage. Finally, we present our recommendations to Veidekke.

Our findings show that Veidekke has three main areas in need of improvement. Most importantly, as their profit margins have been decreasing continuously after the financial crisis, we recommend a more lean cost structure. In addition, we recommend a broader use of partnerships as a way of coping with new entrants in the market. Furthermore, human capital is of crucial importance to Veidekke, and we are concerned because their reputation among engineering students is poor compared to many competitors. In a situation where engineers in general are in short supply in the Norwegian market, we recommend that Veidekke should focus on new HR initiatives to secure a competitive position in the long run.

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Table 10: Financial leverage and CFO to total debt for all companies 2007-2013 Table 11: Top three segments and their % share of revenue for all companies 2013 Table 12: Top three segments with % contribution to group EBIT for all companies 2013 Table 13: Profit margin for each segment in all companies 2007-2013

Table 14: Top three segments in Hochtief and their % share of total revenue Table 15: Top three segments in Hochtief and their % share of total EBITDA Table 16: Profit margin before tax Q1 2013 and Q1 2014 for all companies Table 17: Backlog for all companies (except Implenia) Q1 2013-2014 Table 18: Regression analysis results of Beta, R² and Observations Table 19: Beta table for all companies

Table 20: Cost of debt before tax for all companies

Table 21: Corporate tax rates for Norway, Sweden, Germany and Switzerland Table 22: WACC for all companies

Table 23: WACC (our calculations) and WACC (DNB Market) List of figures

Figure 1: An illustration of the structure of our thesis Figure 2: Turnover in the Norwegian construction Industry

Figure 3: YoY Changes in turnover in the Norwegian construction Industry Figure 4: Veidekke´s organisational structure

Figure 5: Turnover per country and per division in Veidekke 2013 Figure 6: Veidekke´s ownership structure 2014

Figure 7: An overview of Veidekke´s M&As since the eighties Figure 8: The annual distribution of Norwegian government funds Figure 9: YoY changes in GDP and construction output for Norway Figure 10: YoY changes in GDP for PIIGS, Germany and the EURO area Figure 11: Conclusions from the PESTLE analysis

Figure 12: Own production of Porter´s Generic Strategies

Figure 13: SWOT analysis – summing up the finding from the strategic analysis Figure 14: Stock price performance for all companies 2007-2014

Figure 15: Trend analysis of turnover for all companies 2007-2013

Figure 16: Expenses to sub-contractors as percentages of total costs for all companies Figure 17: Profit margin before tax for all companies 2007-2013

Figure 18: ROIC before tax for all companies 2007-2013

Figure 19: Financial leverage for Veidekke and peer average 2007-2013

Figure 20: Percentage change in revenue in Q1 from 2013-2014 for all companies Figure 21: Strategy map – own creation

Figure 22: Veidekke´s Business Model Canvas

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1 INTRODUCTION

After the financial crisis, the Norwegian construction industry experienced a significant increase in competition. The increase was mainly caused by companies, from countries with low investment activity, seeking a share of the relatively high Norwegian activity levels¹. The low investment activity in many European countries was a result of the construction industry’s sensitivity to economic cycles². As many major construction projects are driven by the public sector, the requirement on many governments after the financial crisis to cut deficits has had a direct consequence of reduced industry demand in most of Europe. Norway, with a public surplus, not least due to the energy sector, has been able to maintain high activity levels during the crisis. Construction activities have been used as a tool to keep employment levels up. With major new infrastructure initiatives, this is set to continue for the foreseeable future. In such a situation, it is no wonder that foreign companies have been attracted to this market.

As a leading Norwegian construction company, Veidekke has been affected by the increase in competition, and has experienced a significant decrease in profitability. In this thesis, we will analyse Veidekke’s situation and propose ways in which they can adapt to the changes in the industry.

1.1 Problem statement

Leading up to the financial crisis in 2008, the construction industry across Europe was experiencing some of the best years it had ever seen³. When the financial crisis began in the end of 2008, the situation immediately worsened. There was an immediate drop in construction activities across the European Union⁴. Rather than cherry picking the most profitable projects, construction companies had to scramble to find work at all. Many companies went bankrupt or had to downsize their business, and the slow period in the years following the financial crisis have forced them to fundamentally rethink their business models⁵.

One solution was to scale-up cross border projects, and that included going further than to just the neighbouring countries. Initially, it was in particular companies from the hardest hit parts of

1 KPMG, 2012, Bygg-giganter satser i Norge

2 Berman & Pfleeger, 1997, Which Industries are Sensitive to Business Cycles?

3 Stawinska, 2010, The EU-27 construction sector ”From Boom to Gloom”

4 Ploscaru & Nistorescu, 2010, Impact of the economic and financial crisis in the construction industry

5 Cerved Group, 2013, Monitor of Bankruptcies, insolvency proceedings and business closures

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Southern Europe that started to look at broader markets than before when looking for work⁶. Companies from Spain, Italy, Portugal and other southern European countries went to Germany and other northern European countries. However, this has been followed by construction companies from northern European countries acting in a similar manner, as the crisis spread and demand dropped. The combined effect has been increased competition and general price pressure also in the Norwegian market.

The impact of the financial crisis has in general been a lot less significant in Norway than in other European countries⁷. In Norway, construction demand experienced a lower dip and a faster recovery than in most other European countries. This was partly due to the fact Norway did not have to cut back on public expenditures since they did not have deficit problems. There are several reasons why the Norwegian economy was not as affected by the financial crisis in 2008⁸, as many countries in the rest of Europe. First of all, Norway has for many years run a public surplus due to the energy sector and the massive oil and gas reserves. The government did not have to cut expenditure due to deficits, increased cost of government borrowing or reduced availability of funding; Norway is a net lender. Secondly, the government essentially did an underwriting of the Norwegian banking sector, including the provision of funding, and there was thus no banking crisis. With sufficient funding available for the private sector, the most noticeable effect of the crisis was that interest rates remained low, which all things being equal had a positive impact upon activity. In addition, a very disciplined central bargaining system in the private sector has kept salary levels and such under reasonable control.

The advent of foreign competitors entering the Norwegian construction market has, however, led to fierce price competition as the new market participants even take on project with negative profit margins to gain market share⁹. This forces all market participants to make a choice; either revisit their strategy and business model to be able to adjust to the new market situation, or risk bankruptcy because of pressure on profit margins and declining market share. Veidekke, as a primarily Norwegian based construction company, is also affected by these changes, and has

6 Ewing, 2013, Southern Europe´s Recession Threatens to Spread North

7 The Economist, 2013, The rich cousin

8 Midthjell, 2010, Finanspolitikk og finanskrise – hvilken effekt har egentlig finanspolitikken

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seen a fall in profitability and a pressure on their existing market share¹⁰. In this thesis we will analyse the issues Veidekke is facing and give recommendations on how they should adapt to stay competitive in the highly competitive construction industry in Norway.

This leads to the following problem statement and research questions:

How can Veidekke ASA optimize their business model and capital structure to be competitive in the Norwegian construction market, which is characterised as highly competitive with decreasing profit margins?

To answer this problem the thesis will make a thorough analysis of the Norwegian construction industry from Veidekke ASA’s point of view and answer the questions below.

First, we will look at how macro factors affect the construction industry. In addition, we want to look at Veidekke’s strategic position to determine whether Veidekke has a competitive advantage in the construction industry, and where Veidekke is positioned in the market. The purpose of the first research question in to define Veidekke´s internal strengths and weaknesses, as well as identifying external opportunities and threats. This leads us to the following research question:

How do macro factors affect the construction industry and what is Veidekke’s strategic position?

Secondly, we will analyse Veidekke’s and their competitors’ financial development to determine the impact the financial crisis has had and to get a better understanding of the financial strengths of the different competitors. The analysis is based on data from 2007 to 2013, in order to get a pre and post financial crisis view. This leads us to the following research question:

Analysing financial performance and balance sheet liquidity, how has Veidekke developed, compared to their competitors?

10 Veidekke ASA, Annual Report 2007-2013

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Thirdly, we will analyse the capital structure of Veidekke and their competitors. This is important because the capital structure is used to determine a company’s WACC¹¹. The WACC is an important competitive factor in the construction industry because it is used to discount future cash flow of long-term projects. Therefore, it is essential to have a competitive WACC in an environment where price competition is fierce, and we therefor want to answer:

Does Veidekke´s capital structure generate a competitive WACC, compared with their competitors´?

By answering these research questions we believe we can give recommendations to Veidekke ASA on how to adapt to the post financial competitive environment. The structure of this thesis will be further elaborated in the methodology chapter later in the thesis.

1.2 Delimitation

Our master thesis is written with the purpose of presenting recommendations to Veidekke on how they should adapt their business model in order to be competitive in the construction industry. Our recommendations are targeted at Veidekke as a company and others interested in the industry, and not towards individual shareholders.

This thesis is written for readers with financial knowledge and awareness of general business theory. Therefore the models used in this thesis will not be thoroughly elaborated upon, but a discussion of the model’s strengths and weaknesses will be conducted in the methodology section unless otherwise stated.

This thesis is written from an external perspective using only publicly available information, any information released after the June 17^th 2014 has not been used in the thesis. Annual reports from 2007 to 2013 have been analysed. Although we are analysing companies with activities outside of Europe, the thesis will not analyse the situation on markets outside Europe and will mainly focus on the Norwegian market as mentioned in the problem statement. When data is used it will be specified on which time horizon and exactly what it describes.

A definition of what we consider the construction industry to be will be given in the beginning of chapter two where we will present an industry presentation.

11 Weighted Average Cost of Capital

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1.3 Scientific methodology

In this chapter we are going to elaborate on the scientific methodology of this thesis. The chapter will explain the structure of the thesis, our research philosophy, approach and design. In addition, we will explain the scientific quality of our research methods and reporting standards of IFRS.

1.3.1 Structure of the thesis

The thesis will consist of six chapters. Firstly, the chapter you are currently reading will present the scope and methodology of our thesis. Secondly, we will present the Construction Industry, Veidekke ASA and Veidekke’s competitors. Thirdly, we will conduct a strategic analysis of Veidekke and the construction industry. Fourthly, we will conduct a financial analysis of Veidekke and its competitors. Fifth, we will do an analysis on Veidekke’s capital structure.

Finally, we will present our recommendations to Veidekke on how they should adapt to increasing competition and industry changes, based on the three analytical chapters. Below is an illustration of the structure of our thesis.

Figure 1: An illustration of the structure of our thesis, own production

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The reason for conducting the strategic analysis before the financial analysis is because we believe a lot of information gathered from the strategic analysis will be critical to understand and explain the historical development in our financial analysis.

1.3.2 Research philosophy

Our thesis will provide both quantitative and qualitative methods, thus we have chosen a philosophical worldview that will be a mix of two paradigms, positivism¹² and interpretivism¹³.

The positivistic philosophy is the base of our research philosophy, because we wish to use an objective lens when analysing Veidekke. Data, evidence and rational considerations are how we want to shape knowledge from our analysis, which are some of the important grounds for a positivistic worldview¹⁴. A positivistic approach demands an objective relationship from the researcher, and the approach therefore stresses a non-interactive relationship with the research subject. As none of the authors have previous experience with either Veidekke or the construction industry, we believe we have an objective relationship with the company and industry.

On the other hand, we acknowledge our inability to remain 100% objective when our research will also consist of qualitative methods. To be able to understand the market characteristics of the construction industry and the competitive advantages of Veidekke, we have to conduct research were pure objectivity is impossible. We see the world through different lenses and thus an interpretivistic approach will complement our positivistic approach¹⁵.

We believe this combination of a positivistic and an interpretivistic worldview is a good and realistic approach to the thesis that allows us to be objective researches as well as trying to understand the construction industry and Veidekke´s situation.

12 Creswell, 2003, Research Design: Qualitative, Quantitative and Mixed Method Approaches

13 Saunders et.al, 2003, Research methods for Business Students

14 Creswell, 2003, Research Design: Qualitative, Quantitative and Mixed Method Approaches

15 Saunders et.al, 2003, Research methods for Business Students

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1.3.3 Research approach

Our research approach can be either deductive or inductive. The deductive approach goes from theory to logical reasoning, and is often called the “top-down” approach as is starts with broad general information to confirm or reject a hypothesis. The latter, the inductive approach, goes from logical reasoning to theory, meaning that it as opposed to the deductive approach use more specific observations to generalise.

We have chosen the inductive approach, as Veidekke is our specific example to define some alterations as to how a company in the construction industry in Norway should adapt to changes in the business industry. This is the most obvious approach, as we want to pursue a highly objective methodology. Further, the inductive approach suits our thesis structure and design, to present theory and empirical observations simultaneously in our thesis. In a deductive approach the most common way would be to present methodology and theory before going into any sort of analysis.

1.3.4 Research design

The research design, also called the research strategy, will be based on a mix methods strategy including both quantitative and qualitative methods. We believe that a mixed methods strategy will give the analysis more depth and that each type of methodology will provide a more comprehensive picture of Veidekke and the Norwegian construction industry. As our problem statement revolves around both strategic and financial aspects, a mixed methodology is necessary to cover all aspects. Further, as our research philosophy is based on positivistic and interpretivistic worldviews the mixed methods strategies is the most suitable one as quantitative methods is based on positivism and qualitative methods are based on interpretivism¹⁶. In addition, in our opinion these methods will function as complementary methods to ensure the quality of our findings and give us a nuanced picture that will ensure the scientific quality.

We will use a concurrent mix method, in which we will merge the quantitative and qualitative findings, in our recommendation chapter, to ensure a comprehensive analysis of our research problem¹⁷.

16 Sale, Lohfeld & Brazil, 2002, Revisiting the Quantitative-Qualitative debate: Implications for mixed methods research

17 Creswell, 2003, Research Design: Qualitative, Quantitative and Mixed Method Approaches, p. 15

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The three analytical chapters that will focus on answering the three research questions represent different types of research methods. Below is a more in-depth explanation of how we will conduct our research in each chapter.

The first research question, How do macro factors affect the construction industry and what is Veidekke’s strategic position? will be answered in chapter 3, The strategic analysis. The chapter will be a study where we will explore the construction industry and Veidekke using a variety of data¹⁸. In order to answer this question we have to analyse the strategic environment (PESTLE), the Construction industry (Porter´s Five Forces), Veidekke’s position in the industry (Porter´s Generic Strategies), Veidekke’s way of doing business (Value chain) and Veidekke’s capabilities and advantages (VRIN).

We will start the chapter by using a PESTLE analysis to understand the macro environment and what factors affect Veidekke. Barney points to the fact that this model is available for anyone who is willing to examine external factors, and thus the analysis is not able to produce ground for a competitive advantage because the analysers will most likely come to the same conclusions on how to handle the external factors¹⁹. In other words, a positive external environment does not equal profit for all companies. Furthermore, an attractive macro environment in an industry can still have profits eradicated simply if the competition is too fierce. Nonetheless, we believe the PESTLE analysis is a good start for our analysis as we have chosen a funnel structure and we will look further into how Veidekke can benefit from the external environment later in the analysis, when we narrow down our focus to Veidekke.

Second, we will use Porter’s five forces to analyse the Construction Industry in depth to understand what sort of competition Veidekke is up against and the intensity of the competition.

The five forces framework has been criticised for oversimplifying the companies’ value chains and failing to identify the true problems with for example lack of segmentation of buyers and/or suppliers²⁰. Furthermore, it has been criticised for being out-dated because it was constructed in the early eighties, which was a period with extensive growth and companies only had to compete on market share, while today co-operation in competition is equally important in many industries²¹. However, we believe, that by analysing the value chain independently and using the

19 Clegg et. Al, 2011, Strategy: Theory and practice

20 Grundy, 2006, Rethinking and reinventing Michael Porter's five forces model

21 Conklin & Tapp, 2000, The Creative Web

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analysis only to conclude on the degree of competition and not how individual companies manage the environment, the model can add valuable input to our thesis. Furthermore, we will look into cooperation by analysing Veidekke´s usage of strategic partnerships in the construction industry.

Third, to understand Veidekke’s position in the industry we will use Porter’s generic strategies to understand what kind of strategy the company has in terms of competitive advantage and competitive scope. This model has been criticised for being too simple by some²², and by others criticised for Porter´s notion about mutually exclusive strategies^23,24. However, we believe this model gives a clear overview of the strategic direction a firm is going, and as researchers have found empirical evidence for the two strategies²⁵, the model creates valuable output. Further, researchers have established validity in Porter´s model with the notion that firms that follow these generic strategic will achieve superior performance²⁶.

Fourth, we want to look at Veidekke’s business model in terms of their value chain and how they work. To do this we want to use a Value Chain analysis to elaborate on the complex way of working in the construction industry. Porter´s Value Chain analysis has not received as much criticism as his model on generic strategies²⁷, but some have pointed to the difficulties in applying the model on a modern business model, i.e. not a classical manufacturing company²⁸. We will address this issue by focusing on the most relevant parts of the value chain for Veidekke, and not go in debt with activities which are not relevant for construction companies.

Fifth, a VRIN analysis will be used to look into Veidekke’s capabilities and competitive advantages. Jay Barney is one of the criticisers of Porter’s perspective of competitive advantage²⁹ and to give a more balanced picture of Veidekke’s competitive position we have chosen this model as a supplement to the question of competitive advantage. Although this model have been criticised for its lack of a clear definition of what valuable mean³⁰, we will try to overcome this obstacle by clarifying the definition.

22 Mintzberg, 1988, Generic Strategies: Toward a comprehensive framework

23 Hill, 1988, Differentiation versus low cost and differentiation and low cost

24 Wrigth, 1987, A Refinement of Porter´s generic strategies

25 Hambrick, 1983, An empirical typology of mature industrial product environment

26 Dess & Davis, 1984, Porter´s generic strategies as determinants for strategic group membership and organizational performance

27 Stonehouse & Snowdon, 2007, Competitive advantage revisited

28 Stabell & Fjeldstad, 1998, Configuring value for competitive advantage: on chains, shops and networks

29 Barney, 1991, Firm resources and Sustained Competitive Advantage

30 Ambrosini & Bowman, 2007, Identifying valuable resources

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Finally, a SWOT analysis will be used to sum up Veidekke’s strategic position by looking at the company’s internal strength and weaknesses and external opportunities and threats found in the strategic analysis. We believe that the combination of the above presented theories will provide a solid cover of our first research question, and further help us in the overall analysis towards recommendations for Veidekke.

The second research question, Analysing financial performance and balance sheet liquidity, how has Veidekke developed, compared to their competitors? will be answered in chapter 4, The financial analysis. This chapter is based on quantitative methods, mainly using annual reports from Veidekke and its competitors. In this analysis, we will use horizontal, trend, vertical and ratio analysis to determine the historical development of turnover, cost, profitability and liquidity. All the formulas used in this chapter can be found in appendix 1. To further enhance the analysis, we will go into more depth with each company and investigate the different segments to determine where the turnover and profitability stem from.

The third research question, Does Veidekke´s capital structure generate a competitive WACC, compared with their competitors´? will be answered in chapter 5, The capital structure analysis.

Construction companies use net-present value methods to evaluate what sort of project they prefer to bid on and what price they are able to bid. We believe this is crucial for Veidekke to have an optimal capital structure to be able to be a competitive bidder. The weighted average cost of capital represent the cost of capital from all investors, and we want to find out if Veidekke’s current capital structure strategy is competitive in terms of their discounting rate used for net present value approach. We also want to look at Veidekke’s competitors’ discount rate to establish whether Veidekke is competitive. We will argue for the choice of methodology, when we present our models in the capital structure analysis. We believe this approach will be easier to follow for the reader, as the corporate finance theory is highly debated and does not have any clear methodology in terms of what is right or wrong when calculating costs of capital.

Therefore, we have chosen to place our discussions when they appear, respectively.

When we present our conclusion, it will be a conclusion based on both qualitative and quantitative methods that we believe will strengthen the results and recommendations we present to Veidekke. In each chapter we will present a sub-conclusion to highlight the most

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important findings from each chapter. In the final chapter we will present our own produced strategy map and Veidekke´s Business Model Canvas.

1.3.5 Quality of research

Scientific credibility is secured through scientific quality of our research methods. We ensure scientific quality by focusing on quality criteria and being aware of biases and threats that can occur while conducting the research. As we have chosen a mix methods strategy it is important to be aware of the different definitions of quality criteria in quantitative and qualitative methods.

This demands an overview of the different criteria for each method. However, the mixed methods strategy itself should allow us to be more confident in our results, as we end up with two complementary methods supporting each other’s results³¹.

Validity refers to the question of what the results can be used for and simply put if our research does what we say we are doing³². Fuglsang et. al divides validity into four different sub- categories; technical validity, intern validity, external validity and statistical validity. Each sub- category has a focus on the fact that there is a need for clear causation so that the research in the end actually will measure what was stated would be measured. Looking at qualitative validity, this means that the researcher needs to check for the accuracy of findings³³, and we will ensure this risk by only using valid sources from well-recognised publications. On the other hand, quantitative validity refers to the threat of not drawing the correct numbers or calculations from a data or the threat that the data has not been treated correctly before the researchers examine it.

To make sure we do not miscalculate any data we will use a standard excel spreadsheet for all of our calculations to make sure that all the companies are calculated with the exact same formulas.

Further, we will only use well-recognised data sources and when punching numbers manually from annual reports we will include sum formulas to ensure that the end numbers are correct.

Reliability is the trustworthiness of a research³⁴. Perfect reliability in a research would imply that someone else could follow our methods and structure, and come to the same conclusion.

What is important is to show the reader what we have done and how we have conducted our

31 Jick, 1979, Mixing qualitative and quantitative methods: triangulation in action

32 Fulgsang et. al, 2007, Teknikker i Samfundsvidenskaberne, p. 18

34 Fulgsang et. al, 2007, Teknikker i Samfundsvidenskaberne, p. 18

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research so other people could do the same without getting a significantly different result. Of course, as we have chosen a mixed methods research it will be easier to make an exact copy of our quantitative research as our qualitative research is the basis for our choice of interpretivism as cannot be 100% object. For the quantitative reliability it is important that we at all times describe our methods so that it can be understood and redone. For our qualitative reliability, research suggests that it is important for research colleagues to coordinate a regular flow of communication to ensure that we at all times have the same definitions of where we are headed and what our main focus is³⁵

How we collect and use data is, as described in the two paragraphs above essential for scientific credibility, and thus both important in terms of the quantitative and qualitative approach. The use and collection of data will be presented during the course of the paper. We believe the most practical approach is to introduce the data and sources when they are relevant, because we have gathered data from several different sources and used them in different ways in the research.

Where all tables, graphs and figures are presented we will write a short description explaining where the data has been retrieved and calculated. We have also included an appendix with the different formulas used, so the reader can look up the formulas if needed. Further, a CD-ROM is submitted together with our thesis so the reader can easily enter our excel spread sheets if there is any in-depth questions regarding calculations. As it is important to define a strategy for our collection of data³⁶, we have chosen to only include data published by well-recognised data sources such as Bloomberg, DataStream, Statistics Norway and official publications from the companies, along with publications from well-renowned consulting housing and stakeholder organisations.

1.3.6 Reporting standards and quality

All companies analysed in this thesis are listed on regulated European stock markets and are therefore obligated to report under the International Financial Reporting Standards (IFRS)³⁷. These standards ensure that the annual reports analysed in this thesis have been compiled within the same framework and are therefore similar to the largest extent. However, IFRS still allows some differences, e.g. whether income from associates is reported before or after operating

37 IFRS, 2014, Jurisdiction Profiles

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profit. We adjust for these differences and others by reading notes and apply the same definitions of equal items and adjusting in the analytical income statement whenever this is needed. After this adjustment we calculate profit ratios and other numbers analysed in this thesis.

While IFRS have made it easier to analyse and compare companies across countries it has also been criticised for a high focus on fair value measurement³⁸. Although the thought behind fair value is admirable, it requires extra effort and trust between producers and users. Producers have to look beyond historical cost and use the valuation techniques allowed by IFRS standards, while users have to be critical and look for large fluctuations and other red flags, as managers may sometimes have incentives to take large impairment losses one year if bonus targets cannot be accomplished to make it easier to reach targets in the following years³⁹. However, we have not seen any red flags during our analysis.

Despite the possible conflict of interest between producers and users of financial reports these are still the best way to gain knowledge about a company’s financial performance and to some degree strategic choices. Therefore our thesis to a large extend is based on annual reports.

2 INDUSTRY AND VEIDEKKE ASA PRESENTATION

In this chapter we are going to present the Norwegian construction industry and some of the largest companies that operate in the industry. Furthermore, we will give a more detailed presentation of Veidekke ASA, which is the main focus of this thesis. This knowledge will both be used to introduce the reader to Veidekke and its competitors and as background knowledge in our analysis.

2.1 Industry definition and overview

First of all, we will present our definition of the Norwegian construction industry since this is essential to understand any further analysis. When talking about the construction industry in this thesis, the scope is construction companies that take on building projects from public or private customers and either completes them on their own, hires sub-contractors or complete them in

38 Petersen & Plenborg, 2012, Financial Statement Analysis, p. 3

39 Petersen & Plenborg, 2012, Financial Statement Analysis, p. 3

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partnership with other companies. The construction industry is usually split into three different segments; 1) construction of buildings, 2) civil engineering and 3) specialised constructions.

With construction of buildings being the construction of houses, offices, stores etc. both for private, commercial and public customers. Civil engineering represents the construction of infrastructure projects, such as roads, bridges, tunnels, ports and etc. and this segment is mainly for public customers, but sometimes infrastructure, such as toll bridges, are built by commercial customers. Specialised construction refers to the work related with gas and or water pipes, painting, electricity and other finishing construction work. We will look at all the construction segments during our analysis, to ensure that our recommendations have the highest quality possible.

The Norwegian construction market was on 335,2 billion NOK in 2012 and was expected to grow in the years to come with an expected 4% compounded annual growth rate (CAGR) by 2015⁴⁰ across all three segments. As mentioned in the problem statement, the construction industry is highly correlated with the general economy, and the Norwegian GDP is expected to rise in the years to come and hence, so is the construction industry.

Figure 2: Turnover in the Norwegian construction industry as index numbers with 2009=100 2009-2014, the data is obtained from Statistics Norway.

Based on the graph above we can conclude that the construction industry is also highly affected by seasonality. This is not surprising as weather affects construction, especially in the northern and eastern part of Norway. Constructions are difficult or almost impossible in the winter period

40 Byggenæringens Landsforening, 2013, Økonomiske analyser fra byggnæringen, p. 5

0 50 100 150 200 250

2009 2010 2011 2012 2013

Construc4on of buildings Civil engineering

Specialised construc4on ac4vi4es

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in these parts and in some periods all over the country. Furthermore, the graph tells us that the industry, after a difficult period, following 2008 financial crisis, has seen a slow but steady upward trend. This is further confirmed when looking on YoY⁴¹ changes in the turnover that is shown in the graph below.

Figure 3: YoY changes in turnover in the Norwegian construction industry from 2009-2014, the data is obtained from Statistics Norway.

The effect of the financial crisis is clearly seen in the drop of turnover from 2009-2010, but it is also important to notice how fast the recovery commenced. Already during 2010 the recovery was sporadic and in 2011 all three business areas were growing compared with 2010. This is one explanation for foreign companies finding the Norwegian construction industry attractive following the financial crisis. With this being said, there are still some problems in the industry, which is shown by the low growth rates in the end of 2012 stretching into 2013.

The Norwegian economy recovered faster than most of Europe. This has more than one explanation. First of all, the Norwegian economy was not affected as much as rest of Europe as explained in the problem statement, especially compared with southern Europe⁴². Second, the Norwegian government was not forced to take austerity measures as many other European countries were⁴³. This is very important as a large chunk of the turnover in the construction

41 Year on year changes

42 Midthjell, 2010, Finanspolitikk og finanskrise – hvilken effekt har egentlig finanspolitikken

43 BCC, 2012, EU Austerity Drive Country by Country -‐30 %

-‐20 % -‐10 % 0 % 10 % 20 % 30 %

2010 2011 2012 2013

Construc4on of buildings Civil engineering Specialised construc4on ac4vi4es

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industry relies on public investment, especially in infrastructure projects⁴⁴. Instead of austerity, the Norwegian government was able to approve a 10-year investment plan in infrastructure called the National Transport plan 2014-2023⁴⁵. The plan contains large investments in infrastructure where both train and roads will be improved, to meet the challenges Norway is facing with increasing population and high growth expected in freight forwarding. The plan adds 167 billion NOK to the 2010-2019 National Transport Plan⁴⁶, which brings the total investment amount to 606 billion NOK over the 10-year period⁴⁷. The National Transport Plan 2014 and its consequences will be elaborated further in the PESTEL analysis later on in the thesis.

As mentioned in the problem statement the financial crisis and its aftermath drove construction companies established in other European countries to enter the Norwegian market in search for revenue. The entry lead to pressure on margins and rapidly changed the Norwegian construction market⁴⁸. In the following sections, we will first provide a thorough presentation of Veidekke.

Afterwards we will give a brief presentation of some of Veidekke´s competitors, whom we will also conduct a financial analysis of, to benchmark with Veidekke. We have chosen 3 companies that were present before the financial crisis and together with Veidekke constitute “the big four”, (NCC, Skanska and AF Gruppen) in the Norwegian construction market⁴⁹. Further, we have chosen to analyse two newly entered companies in the Norwegian market, this being the Swiss company Implenia and the German company Hochtief⁵⁰.

2.2 Veidekke ASA

In this section we are going to introduce Veidekke ASA. We will start out with a historical overview, then look into Veidekke’s business model and the organisational structure, and end with a brief explanation of Veidekke´s extensive use of M&As as a part of their growth strategy.

44 Landon, 2009, Thriving Norway Provides an Economic Lesson

45 Norwegian Ministry of Transport and Communication, National Transport Plan 2014-2023

46 Norwegian Ministry of Transport and Communication, National Transport Plan 2014-2023

47 Norwegian Ministry of Transport and Communication, National Transport Plan 2014-2023,p.11

48 KPMG, 2012, Lavere Marginer for Bygg og Anlegg

49 Bygg.no, 2014, Byggeindustrien: 100 Største

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2.2.1 Historical overview

Veidekke was founded in Norway in 1936 for the purpose of constructing roads and laying cobblestone and what may be associated with this work⁵¹. During a time period of almost eighty years, Veidekke has grown into being a leading construction and property development company in Scandinavia and is today leading in its field in Norway⁵².

After the Second World War Veidekke started to construct runways at airports in the Western region of Norway, a field of experience that landed an airport construction contract in Africa and would become an important part of their business model in the future. In the sixties, road construction was again the distinguishing part of the business model before the seventies and early eighties was characterised by contracts with The Norwegian Agency for Development Cooperation (NORAD) in Africa. During the seventies Veidekke searched for new markets in its home country and started building hydropower plants and nation-wide dam construction.

Veidekke started its national-wide business history with dam construction in the end of the seventies, and throughout the eighties and nighties Veidekke went from being the number nine to number one construction company in Norway. The expansion was characterised with mergers and takeovers, as more than 60 companies have been incorporated under the Veidekke business umbrella since 1982. Following the expansion, Veidekke was listed at Oslo Børs (Stock exchange) in 1986. During the nineties, Veidekke expanded into the field of asphalt, gravel and crushed stone. The nation-wide company expanded its geographic boarders to include Sweden and Denmark during the noughties. In Denmark, Veidekke goes under the name of Hoffman AS, a construction industry Veidekke bought in 2000 with a history going back to 1863⁵³. Today, Veidekke is a large construction company with 6300 employees, and their business idea has developed from laying cobblestone into creating value by designing, building and managing projects in partnership with customers who inspire growth and development⁵⁴.

51 Veidekke, 2014, “Once upon a time there was a cobblestone company…”

52 Veidekke, 2014, Fakta om Veidekke

53 Hoffmann, 2014, Om Hoffmann

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2.2.2 Veidekke’s business model and organisational structure Veidekke has three main areas of business⁵⁵:

• Entrepreneur: Building and construction in Norway, Sweden and Denmark

• Property: Developing and sale of property in Norway and Sweden

• Industry: Operations within asphalt, gravel and crushed stone and road maintenance in Norway and Sweden

These different areas consist of regional, district and section offices combined with different subsidiaries.

The business model is divided into business divisions based on the expertise areas, with support functions within finance, IT, strategy, HR, communication and legal. Below is an overview of the organisational structure.

Figure 4: Veidekke’s organisational structure, own production based on organizational chart retrieved from www.veidekke.no

CEO

Industry/

Property

Industry

Property

Entrepreneur

Region Anlegg

Region East

Region South

Region North/

West

Sweden/

Denmark

Entreprenad Anlaggning

Entreprenad Bygg Bostad

Hoﬀmann CFO/

Procurement/

Strategy/

HR/

Communica4on/

Legal

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To give an overview of the size and strength of each division and country, we have chosen to show a percentage overview of each division and country. As seen from the two pie charts below, Norway and the entrepreneur division are clearly the largest business areas for Veidekke.

The Norwegian market represents three quarters of the company’s total turnover in 2013, a number that has been rather stable during the last ten years⁵⁶.

Figure 5: Turnover per country and turnover per division in 2013 for Veidekke. Data retrieved from Veidekke’s annual report 2013 and calculated in excel. See appendix 5 on CD-ROM

The charts also show that the entrepreneur division represents the largest business division with three quarters of the total turnover in 2013; this percentage share has also been stable during the last decade.

2.2.3 Ownership

Veidekke is mainly owned by Norwegian and European institutional owners including building associations, banks, and funds⁵⁷. The largest owner is OBOS (Oslo property and savings association), which owns 28% of Veidekke. IF Skadeforsikring owns 9% through Citibank, their deposit bank. Further, an important part of the ownership is Veidekke’s employees, which owns almost 20% of the company⁵⁸. This is an important part of Veidekke’s culture, as they believe

56 Veidekke ASA, Annual Reports 2007-2013

57 Veidekke ASA, 2014, Ownership Structure

58 Veidekke ASA, 2014, Veidekkekulturen

75 % 19 %

6 %

Turnover per country 2013

Norway Sweden Denmark

76 % 8 %

16 %

Turnover per division 2013

Entrepreneur Property Industry

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employee ownership strengthens the commitment and responsibility feeling for everyone in the company.

Figure 6: Veidekke´s ownership structure, own production with data retrieved from Veidekke Investor Relations.

See appendix 5 on CD-ROM

2.2.4 Veidekke´s mergers and acquisitions

Since the eighties Veidekke has completed a lot of mergers and acquisitions, which have helped them gain a position as the leading construction company in Norway, and further expanded the geographical boarders to include Sweden and Denmark. The figure below shows the extent of the merger and acquisition activity in the company since the early eighties. All of these activities represent expansion in all business segments and geographical areas. In recent time, Veidekke has purchased the Swedish construction company Arcona⁵⁹, an example of expansion activity in Sweden⁶⁰.

The M&A activity is also an important reason for Veidekke´s local knowledge and presence.

59 Veidekke ASA, 2013, Veidekke kjøper svensk entreprenør

60 Bygg.no, 2002, Veidekke med oppkjøp i Syd-Sverige

OBOS 28 %

Ci4bank 9 %

Folketrygsfonden 8 % SEB

4 % Employees

18 % Others

33 %

Ownership structure 2014

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Figure 7: An overview of Veidekke´s M&As since the eighties. Downloaded from www.veidekke.no

2.3 Companies on the Norwegian market

In this section we will give a brief presentation of the competitors we have chosen to compare Veidekke with. We will further analyse each company´s market position and financial performance in the following chapters.

2.3.1 Skanska

Skanska originates from the 19^th century, more specifically they can be dated back to 1887, are domiciled in Sweden, and was one of top 20 largest construction companies in the world in 2013⁶¹ with a total revenue of 17,2 billion dollars⁶². On the Norwegian market Skanska is the second largest operator measured on revenue and with more than 57.000 employees worldwide they are a significant player both in the global and Norwegian market. They operate within all

61 Fahy, 2014, The 25 Biggest Contractors in the World

62 Skanska, 2014, Om Skanska

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segments in Norway building both private houses, commercial building and infrastructure projects. Beside Scandinavia, Skanska operates in Europe, USA and South America.

2.3.2 NCC

Like Skanska, NCC is domiciled in Sweden. NCC is a relatively new company established in 1989 as a merger between existing construction companies⁶³. NCC is one of the largest players in the Scandinavian market, and has been active in the Norwegian market since the start of the nineties. From the Nordic construction market NCC generated sales worth 882 Billion SEK in 2013. NCC mainly operates on the Scandinavian market and does not have the same geographic diversification as Skanska. However, NCC has started to conduct some business activities in Northern Germany, The Baltics and Russia⁶⁴.

2.3.3 AF Gruppen

AF Gruppen was established in 1985. They are domiciled in Norway and started out by targeting large infrastructure projects⁶⁵. During the years they also started to construct buildings and conduct business within all construction segments. In 2004 they started working offshore, which today is one of their most important business areas. They are the third largest player in the Norwegian market with revenue of 10.127 million NOK. AF Gruppen has 2600 employees across Norway, Sweden, Ukraine and China, with Norway by far being their largest geographic area.

2.3.4 Implenia

Implenia was formed in 2006 after the merger of Zschokke and Batigroup. Despite them being a newly established company, they have more than a 150 years of history from Zchokke and BatiGroup⁶⁶. Implenia is the largest construction company in Switzerland from where they originate. They have 6.400 employed and a yearly revenue of about 2,7 billion CHF (equivalent of app. 18,33 billion NOK). They have branches across Europe, the Ivory Coast and the United Arab Emirates. Implenia entered the Norwegian market in 2011 when they acquired the Norwegian Company Betonmast Anlegg A/S and their associated companies. Over the last 3

63 NCC, 2014, Om NCC

64 NCC, 2013, Annual Report, p. 12-13

65 AF Gruppen, 2014, Om AF Gruppen

66 Implenia, 2014, A Young company with tradition